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FASB Stays on Course for Standard on Credit Losses

Apr 27th 2016
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For those wondering what’s going on with the new accounting standard on credit losses, we have an update for you.

The Financial Accounting Standards Board (FASB) voted on April 27 to proceed with the new rules, which are intended to provide timelier financial reporting of credit losses on loans and other financial instruments held by banks and other financial institutions.

The final Accounting Standards Update is expected to be issued by the FASB in June.

The FASB also decided to defer the original effective dates by one year, giving financial statement preparers more time to review and plan for the changes before the standard goes into effect. Those new effective dates are:

  • For public companies that meet the definition of a US Securities and Exchange Commission filer, the upcoming standard will take effect for fiscal years (and interim periods within those fiscal years) beginning after Dec. 15, 2019.
  • Other public companies will be required to apply the guidance for fiscal years beginning after Dec. 15, 2020, including interim periods within those fiscal years.
  • For private companies, not-for-profit organizations, and employee benefit plans, the standard will take effect for annual periods beginning after Dec. 15, 2020, and interim periods within fiscal years beginning after Dec. 15, 2021.
  • Early adoption will be permitted for all organizations for fiscal years beginning after Dec. 15, 2018, including interim periods within those fiscal years.

The credit loss standard will introduce a new impairment model based on expected losses rather than incurred losses. Because the existing impairment model delays recognition of the credit loss until the loss has been incurred, many have argued that the model fails to alert investors to expected credit losses in a timely manner, the FASB says.

The new current expected credit loss (CECL) model uses a single “expected credit loss” measurement objective for the allowance for credit loss.

“The new standard will require that the balance sheet reflect the net carrying amount of a financial asset (net of allowance for credit losses) at the amount an organization expects to collect,” FASB Chairman Russell Golden said during an American Institute of CPAs conference last December.

He added that the global financial crisis of 2008 highlighted the need for a more “forward-looking model – one that gives preparers the opportunity to recognize losses that exist in the loan portfolio and recognize them up front. Many aspects of the CECL model in its current form were developed in direct response to bank stakeholders, who provided feedback intended to reduce the cost and complexity of implementation.”

But some in the banking industry are leery of the new standard. Most of the apprehension centers around the proposed lifetime expected loss reserve for all financial instruments measured at amortized cost and the unknown impact that it will have on the financial statements, Lauren Smith and John Lankenau of Primatics Financial wrote in an article for ABF Journal.

“Experts estimate that CECL could increase the reserve from 30 percent to 50 percent; our own analysis supports this as a reasonable range,” Smith and Lankenau wrote. “While the ultimate impact on the financial statements remains unknown today, we do know that CECL will have data implications for financial institutions and will put more stress on those that have not solved fundamental data architecture challenges. Adapting organizational processes to comply with the new standard will be important for banks.”

In a Jan. 13 letter to Golden, Rob Nichols, president and CEO of the American Bankers Association, called the CECL model “the biggest change – ever – to bank accounting.” He expressed concerns about the burden CECL presents for community banks.

“There have been public statements by banking regulators that they are working with FASB to ensure CECL will be scalable to community banks. We believe the goal of scalability is linked to simplicity, which is extremely important both for banks and users of their financial statements. However, it is difficult to see how most community banks can implement a noncomplex CECL model that will pass audit or examination muster in this environment. As a result, we are concerned that there could be substantial cost burdens not only at implementation, but also subsequent to implementation as a result of audits and examinations,” Nichols wrote.

So, what are the next steps by the FASB? Staff will complete a “ballot draft” of the Accounting Standards Update that includes all of the board’s final decisions. The ballot draft will be shared with each of the seven board members, who will review it to ensure that it accurately reflects the decisions made throughout their public deliberations. When the board is satisfied that the ballot draft reflects its intentions, the draft will be submitted to production for final publication, which is expected in June.

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